Intertemporal Substitution, Risk Aversion, and Economic Performance in a Stochastically Growing Open Economy

Posted: 17 Jul 2006

See all articles by Paola Giuliano

Paola Giuliano

University of California, Los Angeles (UCLA) - Anderson School of Management; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); IZA Institute of Labor Economics

Stephen J. Turnovsky

University of Washington - Institute for Economic Research; CESifo (Center for Economic Studies and Ifo Institute)

Abstract

The constant elasticity utility function implies that the intertemporal elasticity of substitution is the inverse of the coefficient of relative risk aversion. With empirical evidence suggesting that this relationship may or may not hold, studies of risk and growth should decouple these two parameters. This paper provides an analytical characterization and numerical simulations of the equilibrium of a stochastically growing small open economy under general recursive preferences. We show that errors committed by using the constant elasticity utility function, even for small violations of the compatibility condition, can be substantial. Our results suggest that the constant elasticity utility function should be employed with caution.

Keywords: Intertemporal Substitution, Risk Aversion, Stochastic growth

JEL Classification: D81, D91, F43

Suggested Citation

Giuliano, Paola and Turnovsky, Stephen J., Intertemporal Substitution, Risk Aversion, and Economic Performance in a Stochastically Growing Open Economy. Journal of International Money and Finance, Vol. 22, No. 4, pp. 529-556, August 2006. Available at SSRN: https://ssrn.com/abstract=897122

Paola Giuliano (Contact Author)

University of California, Los Angeles (UCLA) - Anderson School of Management ( email )

110 Westwood Plaza
Los Angeles, CA 90095-1481
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

Stephen J. Turnovsky

University of Washington - Institute for Economic Research ( email )

Seattle, WA 98195
United States
206-685-8028 (Phone)
206-543-5955 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Register to save articles to
your library

Register

Paper statistics

Abstract Views
464
PlumX Metrics